UK: Section 111 - The Sausage In The Insolvency Sandwich

Last Updated: 29 August 2012
Article by Maxwell Fox Leonard and Scott McKinnell

Section 111(10) of the Housing Grants, Regeneration and Construction Act 1996, as amended by the Local Democracy, Economic Development and Construction Act 2009, does not sound like the basis of an exciting conversation, however, it might end up being something which in the present market conditions you wish you knew a little about...

The Historical Context

First a brief history lesson: In 2007 the House of Lords delivered its judgement in the case of Melville Dundas –v- George Wimpey.

In that case, Wimpey sought to rely on contractual terms (clause of the 1998 JCT Standard Building Contract with Design) which allowed Wimpy to withhold payments to Melville Dundas in circumstances where:

  1. The final date for payment had passed;
  2. No withholding notice had been issued; but
  3. The sum due had fallen due within 28 days of Wimpey terminating Melville Dundas's employment under the contract due to Melville Dundas's insolvency.

The case was of great significance because it went to the heart of the intent of the 1996 Act – Wimpey were retrospectively trying to withhold payment.

The House of Lords decided (for reasons beyond the scope of this discussion and the comprehension of many) that Wimpey was entitled to do so. This judgement was not only controversial in the House of Lords (it was a majority decision), but also caused wide spread concern that the whole purpose of the 1996 Act had been undermined - it seemed like the withholding notice had been circumvented.

The effects of Melville Dundas have not, to date, been fully explored. A subsequent case, Pierce Design –v- Johnson on very similar facts did not succeed, but only because the facts were subtly different than those in Melville Dundas. Melville Dundas remains good law.

All of which brings us to the present day.

The Practical Bit

The 'New Construction Act', contains a provision at s111(10) which broadly appears to provide as follows:

If the contract says so:

A  Where the payee becomes insolvent; and
B  the insolvency occurs after the final date for issuing a 'pay less notice', but before the final date for payment;

then the payer need not make any payment.

This subsection of the New Act, therefore, appears to provide a statutory 'version' of the House of Lords decision in Melville Dundas. However, there are a number of practical considerations and potential risks which should be carefully considered:

  1. Firstly, and probably most importantly, this is not a statutory right to withhold payment against insolvent parties – if you want it, you have to put it in your contract.
  2. Secondly, the insolvency cannot occur at just any old time, it appears it has to occur after the last date upon which you could have issued a pay less notice, and before the final date for payment (there may be some uncertainty about this, but it is the most likely interpretation).
  3. Thirdly, it appears to be a harsher measure than in Melville Dundas. In Melville Dundas, the contract provided that once the works had been completed by others, a quasi final account would be drawn up and any payment due between the parties would be made. Not so with s111(10) which appears to apply in perpetuity.
  4. Fourthly, and perhaps most theoretically, nothing in the New Act expressly says that Melville Dundas is bad law. That may mean that clauses like that in Melville Dundas which did apply in circumstances of termination due to insolvency, but also in circumstances of default (affirmed in Pierce Design), may still be lawful.

The implications of this may be that insolvency practitioners start to use the potential loopholes in the legislation to recover monies under subcontracts which may not otherwise previously have been payable leaving main contractors as the sausage in the insolvency sandwich!

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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